The typical economist’s mindset is a logical, dispassionate (though not necessarily uncaring) analyst who weighs up situations and policies using basic principles, bearing in mind there are always trade offs and no perfect solutions. Economists usually weigh things up with efficiency in mind, thinking of equitability as an important but often opposed goal to efficiency, and one that should probably be considered separately (this stems from Kaldor-Hicks efficiency, which suggests that pareto optimal policies can be combined with redistribution policies to produce the best possible outcome in terms of both efficiency and equity. Sadly, in practice this means economists sometimes just advocate the former, with the proviso that the latter could happen, but don’t worry as much as they should about whether the redistribution actually does happen).

There are obviously areas where economist’s toolkit applies. Cost-benefit analyses are appropriate for business plans and plans in other organisations. Opportunity cost is relevant when keeping the weekly shop within a budget: if we buy the biscuits, we won’t have enough for the cereal bars, etc. The economic way of thinking also has unexpected applications: for example, economists have done commendable work in the field of organ donation.

However, problems with the ‘economic way of thinking’ arise under certain circumstances. This is commonly when actions have outcomes that are fundamentally unknown, or are incommensurable. What is the opportunity cost of me writing this blog post? Well, I could be writing a different blog post, but I have no idea which one my readers would prefer. That’s assuming I evaluate blogging solely in terms of one metric, like page views, which obviously isn’t true. Alternatively, I could be reading a book; perhaps I’d get an idea for a better post for that, so over the long term reading would be more fruitful. I could also be sleeping, cooking, at the pub, or any number of things, but weighing up the various trade offs and benefits of these actions ‘like an economist’ is simply not possible.

I believe there are ample examples of economists extending their economist’s toolkit beyond where it is appropriate. I will note that good economists realise the limits of their approach, and would probably not endorse the (sometimes absurd) instances of ‘economic imperialism’ I am about to present:

Politicial science. Economists extended their toolkit to political science with public choice theory, which supposes that politicians and voters are rational self-maximisers who act to further their own interests, be they power, prestige, financial gain or what have you. This found its reductio in Bryan Caplan, who suggested that voters are rationally ignorant of politics because the costs outweigh the benefits, and so economists (who are obviously right about everything) should dictate public policy. You know, like in Chile.

Fortunately, this theory is wrong. Research, the best coming from Leif Lewin, has found that politicians and voters act in what they perceive to be the general interest, not narrow self interest. People vote and act out of a sense of obligation and citizenship, not because of any cost benefit analysis they partake in. Public servants are generally public spirited and less motivated by money than those in the private sector. While special interest groups are a problem, economists are better off turning to political scientists if they want to analyse this further, who have known what I outlined above for a long time.

The environment. Some of economist’s basic tools are easily shown to be absurd when applied to environmental analysis. It is not possible to place a monetary value – economist’s go to unit – on most environment variables. How do we compare the ‘value’ of a lake with the economic costs of a carbon tax? Is there some level of carbon tax at which we would forego every lake on earth rather than apply it? How do we compare, say, the depletion of coal with a rise in the sea level? These things have many different metrics by which they can be judged. The financial metrics used by economists are surely among them, but they are only a small part of the picture.

Another problem arises when looking at possible future environmental outcomes, as probabilities are fundamentally unknowable. Some try to approach the issue of global warming and environmental catastrophe by weighing up probabilities and doing cost-benefit analyses. But how do we propose to calculate the probability of environmental disaster? We don’t have a set of earths we can ‘run’ to evaluate how often catastrophe occurs; climate models display chaotic behaviour that is highly dependent on the accuracy of initial conditions. The fact is that we simply don’t know how likely disaster is, what its impacts will be, and framing it in such a way is deeply misleading. Furthermore, even if the probabilities were known, what matters is not just the weighted relative costs and benefits, but the potential for absolute disaster. If there is a 1% chance the world will end unless we do x, we shouldn’t do a cost-benefit analysis. Instead, assuming x is feasible, we should simply do it.

The law. As Yves Smith details in ECONNED (pp. 124-126), Chicago School economists managed to persuade first legal theorists, and then those involved in the legal system itself, of the efficacy of their way of thinking, eventually forming the ‘law and economics’ school. Since this was Chicago, it will not surprise you to learn that this approach largely consisted of a focus on efficiency over, say, due process, promoted deregulation, and rejected notions of corporate social responsibility. Nor should it surprise you that the movement had a large degree of – ahem – ‘support’ from various moneyed interests.

Theoretically, I find the corporate social responsibility position to be incoherent. Empirically, it’s obvious that the framework economists had a substantial part in setting up has failed. Fraud has risen; the changes in anti-trust have not had the benefits that economists predicted; we had a financial crisis in 2008 as a result of the regulatory framework put in place. Note that this isn’t an ideological point: you can think that the regulation was too loose, too tight, or simply wrongly formulated. But in general, defending the exact thinking and framework that led to the crisis is absurd.

Economists take pride in the seeming versatility and simplicity of their framework, and they are eager to apply it to other social sciences. That economists conclusions are, to quote Keynes, “austere and often unpalatable, len[d them] virtue”, especially when contrasted with less mathematically certain social sciences, such as sociology. But oftentimes economists act to displace existing theories without really considering the existing viewpoint. And oftentimes that existing viewpoint has more to it than economists, trained as they are to see things a certain way, might perceive. Hence, economists should always careful when venturing onto new intellectual turf, as otherwise they risk missing vital insights long known to others, insights to which their framework blinds them.

Completely agree. What we need is not economic theory, but the integration of both economics and the most powerful distillations of human wisdom.

Here is the definition of Wisdom:

The ability to hold in one’s mind two or more seemingly opposite and/or often not at first apparently related ideas, integrating them and coming up with a sane, humane, ethical and workable action/policy with the result.

In other words Wisdom combines BOTH, EMPHASIS BOTH comprehensive thinking AND, EMPHASIS AND ethical acting…in the best possible way.

You raise a lot of important issues in this post, especially on the tendency of economics to wade into other areas of social science, rename then as a newly minted branch of economics, and then fail to capture the specific nature of the issue at stake by applying a narrow set of tools.

On the question of economic approaches to valuing the environment, mainstream economics would at least make a leap forward if it took on the starting point of ecological economics and recognised that resource flows within the monetary economy are a subset of resource flows within the natural environment.

The most effective advance I have seen in reframing the failure of economics to account for the risk of environmental disasters comes from outside economics in the form of ‘planetary boundaries’, a concept put forward by Johan Rockstrom and other Earth system scientists in 2009, aiming to define the critical Earth system processes that keep the planet in a Holocene-like state, and to avoid anticipated tipping points in their functioning.

I was so inspired by this framework that I built on it by adding social boundaries to the picture: critical human boundaries of resource use for meeting essential needs such as food, water, health, energy and income. The result is a doughnut-shaped space between social and planetary boundaries, within which humanity (and the economy) can thrive. This is what it looks like:

This approach of planetary and social boundaries puts in place a set of fundamental values for human well being – defined not in monetary metrics but in natural and social metrics – and asks what would economic development look like that brought us into this space – so that the notion of economic development is derived, rather than asserted as the metric of concern. I’ve presented this widely, including in this talk at the RSA http://www.youtube.com/watch?v=CqJL-cM8gb4 and have been struck by the traction it has gained as a starting point for rethinking the aims and criteria of success in economic development. I’d be really interested in your reaction to it as one way of challenging the dominance of mainstream economic thinking. Cheers, Kate.

Excellent, excellent scientific and social analysis. It is no coincidence that we can come to basically the same conclusions about policy combining thought in different areas…from completely different directions. If that is not a striking affirmation of my above definition of what Wisdom actually is….and that we indeed CAN trust its most potent and personally powerful distillations to guide and reflect that policy……then I’ll stand corrected.

Resolving the economic, financial and monetary problems are so important because it can enable technological innovation free reign to create resource conservation BOTH by efficiency AND by attrition of currently “necessary” resource use. Technology can also help cut the Gordian Knot that holds the employment/economic stability trade off in effect as well as the obsessive growth paradigm.

And the key to enabling this is the recognition that adding a new economic paradigm for CONSUMER finance of monetary Grace, the free gift to the two current ones of finance for production and with a loan ONLY. I hasten to add that more money in the hands of everyone does not necessarily have to mean (nor does it exclude) more overall consumption. Massive additional consumption might be a fear, but if one also realizes (and I assert is a fact) that there is ALWAYS a systemic deficit of incomes to prices enforced by the rules of disciplines ever present and governing traditional commerce then a mathematically derived gift of money to individuals would ACTUALLY tend to simply enable them to FINALLY liquidate the price of production as it came to the market…instead of having to borrow in order that individuals might have a little bit more money …..but STILL be unable to do so….and hence the economy not go out of balance.

If science and intuition integrate and combine….the result is Wisdom…by my definition…and in actual fact. And a big part of the problem of not getting the temporal universe result of that Wisdom….is failing to “step out in faith” that Wisdom is the proper guide. After all, Wisdom actually is and would be the integration of “BOTH comprehensive thinking AND ethical acting…in the best possible way.”

I completely agree that the economy should be placed in its environmental context. It’s not fair to suggest that economists ignore the environment by any means, but the fact that the economy is not presumed to operate within and rely on the ecosystem is a major error.

I am also intrigued by the idea of a ‘Goldilocks zone’ for the economy, as with the earth’s orbit. I wish I knew more about ecology.

economists, hardly acknowledging their own subject, are often prone to enter into other fields of science…something like “i dont know who i am…but you surely ought to be X, according to the local optimum …”

Political science: “Public servants” may not be much motivated by money, but that’s not the claim. The claim is that they generally make decisions in their own interest. While they may not be much interested in money, the are interested in power (or, as they call it in the industry, “impact”). Of course they claim to want this impact on behalf of the “public good”, and they may even be fooling themselves into believing that their interests happen to coincide with the people. They just aren’t fooling public choice theorists.

Environment: Your reductio ad absurdum isn’t absurdum. Of course you can apply economic thinking to valuing a lake—lots of private properties have lakes, and it affects their property values in predictable ways. So too with public lakes; it’s just that you aren’t used to thinking of countries as big chunks of real estate, and the market in sovereignties is rather illiquid. There’s no fundamental barrier to applying the methods of private property to property owned by a government.

Regarding climate change, you have to consider not just the probability of total disaster, but also the probability that the estimate of total disaster even vaguely resembles reality. Let’s apply some economic thinking to the problem: you’re an ambitious young climate scientist with a new assistant professorship at a respected university. You’ve narrowed your research goals to either (a) enumerating the many horrible effects of an increase in global mean temperatures or (b) enumerating the many wonderful benefits of same. You’d like the NSF to approve your grant application, and you really want tenure. Which option do you choose, (a) or (b)? In other words, given the incentives faced by climate scientists, can we expect a systematic bias in the investigation of global warming’s costs compared to its benefits? If you don’t think the answer is obvious, you’re not thinking like an economist.

Of course they claim to want this impact on behalf of the “public good”, and they may even be fooling themselves into believing that their interests happen to coincide with the people. They just aren’t fooling public choice theorists.

Yes well we aren’t talking about words, we are talking about what they actually do, such as working more unpaid overtime. This is the ‘revealed preference’ approach you seem so keen on.

Of course, you may claim that it is all smoke and mirrors and they are secretly selfish. That is a highly pessimistic view of your fellow man, but more importantly it is unfalsifiable. If there is no piece of evidence which can disabuse you of your preconceptions, there is no debate, and you do not even qualify as wrong.

There’s no fundamental barrier to applying the methods of private property to property owned by a government.

I didn’t say there wasn’t. All I said was that monetary value is only one area of a much bigger picture.

In other words, given the incentives faced by climate scientists, can we expect a systematic bias in the investigation of global warming’s costs compared to its benefits? If you don’t think the answer is obvious, you’re not thinking like an economist.

Of course I’m not ‘thinking like an economist’, because it’s dangerous, as I outline in this post.

Look, I’m not going to sit here and debate climate science with you. There is an utterly overwhelming scientific consensus, based on cold hard facts. If scientists really were self interested assholes looking for prestige, career advancement or just plain cash, they would reject global warming given the immense offerings bestowed upon such scientists by fossil fuel companies. Btw, in your example I see no reason why the scientist has an incentive to accept AGW over rejecting it. If he does good research, it will be accepted. Really your ‘thinking like an economist’ is just used to confirm your biases; if you want to debate AGW then do it based on facts.

I’ll have a look at David Friedman’s book, but given he has no formal training in either of the fields he is writing about, and the state of his other book, I am not expecting great things.

The idea that the 2008 crisis is due to “Chicago School Economics” is a purely ideological position. It is not supported by reality.

But the 2008 crisis is illustrative of an economic point that is missed by many economists: No matter how much politicians act in their self interest, over the interests of the economy, the blame will never be attributed to them, but instead to some scapegoat.

2008 was a direct result of the actions of Barack Obama and Bill Clinton in the 1990s (where the idea that lending only to people who could repay was “racist”, and therefore banks should be forced to lend to people who can’t repay), the CRA regulations that came as a result, the government subsidizing of bad loans that came from Freddie Mac and Fannie Mae, and the zero-interest-rate policy of the Bush administration, namely Greenspan.

The government forced banks to make bad loans, then made this profitable by loaning them money below market rates… and when it blew up in 2008, despite the Mises institute pointing out the problem consistently since 2001 (well before Paul Krugman advocated for creating a housing bubble in 2003) …. the politicians (And their mouthpieces like Paul Krugman) generated a lot of rationalizations to point the finger anywhere they could. And yet one of the architects of the crisis (Obama’s lawsuit started it) got elected president twice.

Obviously voters are either ignorant or not acting in their self interests.

Worth noting, the cheap money policy started under Bush and Greenspan is continuing under Obama and Bernanke.

When it blows up again (and it will, within the next 5 years) you guys will be saying “nobody could have seen it coming!” and calling it a “black swan event”.

Reality is that economics is a science. Like all sciences the quality rests on the ability to make predictions. Real economists have successfully predicted these events….

The problem is, ideological people refuse to recognize economics– the science– and instead choose “economics” the rationalization.

Hey, if you want to peddle the ‘the government caused the crisis‘ line contact Barry Ritholtz and put your money where your mouth is. The CRA covered about 6% of loans at the most and banks were not ‘forced’; if they did not comply, they barely received a slap on the wrist. Fannie and Freddie held more responsibility but the fact is that they were legally prevented from partaking in the worst of the subprime fiasco.

When it blows up again (and it will, within the next 5 years) you guys will be saying “nobody could have seen it coming!” and calling it a “black swan event”.

“You guys”? Am I one of Paul Krugman’s cronies now? News to me.

There’s a reason this blog is called ‘Unlearning Economics’. Part of that reason is economist’s failure to foresee and deal with the financial crisis; I have blogged about this subject a lot, noting people such as Steve Keen, who did foresee the crisis, and castigating economists for pretending the crisis doesn’t matter. I may not agree with you on causes, but I do agree on the problems.

What about chris martenson, who predicted the crisis aptly (in 2007, which caused me to warn everyone whom I know that a crash was coming)?

I think it’s accurate to say ‘the government caused the crisis’. It fostered through legislation an economic system with exponentially increasing money, thus stealing from the poor and giving to the rich and powerful, who wound up investing poorly, to keep themselves and the middle class afloat. Of course, when the investments came up short the middle class was left with the bag. End of story.

Absolutely, in the way that you say it. The government is at least partly responsible for everything that happens under its jurisdiction, and corrupt politicians and regulators bailing out their cronies is not acceptable. Whether by omission or commission, governments are responsible.

However, that is not what engineer is suggesting. What he is trying to imply is that the private sector is absolved of responsibility because the government ‘forced’ it to lend irresponsibly. That is just absurd.

I’m reconsidering my position on censorship having read the above comment. Clinton has a role, but not for the reasons you set out above. Your position misrepresents the facts and mischaracterizes a debate on a question that is urgent and desperately needs attention of a well informed public. Your ignorance makes a bad situation much worse. Riegle Neal Act of 1994. Before that the decision to allow tax deduction for mortgage debt. 1980s. REAGAN. Before that the decision to pass Federal Law prohibiting state caps on mortgage debt. REAGAN. I could continue, but I’ll let you start with that. Bank Holding Company Act prevents the concentration of control over money and credit. That is the problem. Not the community reinvestment act, which most financial institutions are not in compliance with anyway.

this is great, although it’s worth noting that the ‘chicago boy’ economists in chile claimed to not want to dictate public policy, just economic policy, and collaborated with the dastardly Pinochet under the theory that (if you take them at their word) that it would be easier to recover from a politically repressive regime if there was an underlying culture of economic freedom.

The ‘other side’ in the chile situation also can be argued to have attempted to overapply economics, with its attendant problems analogous to ‘evaluat[ing] blogging solely in terms of one metric’

that it would be easier to recover from a politically repressive regime if there was an underlying culture of economic freedom.

This perspective really grates me because it glosses over the thousands of ordinary people who braved Pinochet’s death squads to fight for political freedom that was taken away by the same system those Chicago boys aligned with, though they choose to overlook its faults as ‘outside’ it or unfortunate deviations from their ideal.

That link is crazy! But the article doesn’t imply that it was a massive failure. Am I missing something?

Your whole premise is that “economic thinking” and “action” happen in a vacuum. There are so many inputs to the systems you mention that realistically modeling them is a fools errand. “Economic thinking” helps to parse the never-ending flow of data into information that can be potentially useful. Economic thinking does NOT force the hand of anyone to action…

From your post: “This is commonly when actions have outcomes that are fundamentally unknown, or are incommensurable. ”

Nothing outside of your thoughts are in your control. Don’t forget that. For example, you have NO IDEA how many heart beats you have left. One need not be a rocket scientist to deduce what is and isn’t in our control. In other words, no outcome is certain.

From your post: “Hence, economists should always careful when venturing onto new intellectual turf, as otherwise they risk missing vital insights long known to others, insights to which their framework blinds them.”

Perhaps the opposite is true, maybe these fields need their longheld world-views shaken up a bit. Vital insights are only vital to people who have an emotional attachment to said insight. Otherwise its just another data point. After all, we are discussing items that are not completely understood, life.

This diatribe is heavy on the criticism, but very light in solutions. What is the alternative? Gut feeling? Go with long known insights that are patently wrong / not working? Throw a dart?

Why don’t we get some fresh eyes on these problems… preferably from other domains. Maybe they can spot actionable insights that others missed to due confirmation bias or similar emotion driven analysis. More thinking and less emotion are better.

There are so many inputs to the systems you mention that realistically modeling them is a fools errand.

I could say the same thing about weather and many engineering problems. That a system is difficult to model does not make it impossible to do so.

Perhaps the opposite is true, maybe these fields need their longheld world-views shaken up a bit. Vital insights are only vital to people who have an emotional attachment to said insight. Otherwise its just another data point. After all, we are discussing items that are not completely understood, life.

Perhaps economics needs shaking up.

Look, all I’ve done is present areas where economists are obviously wrong to apply their toolkit. I’ve used references and evidence. If you want to ‘shake up’ other social sciences, I suggest you get started with some actual arguments.

This diatribe is heavy on the criticism, but very light in solutions. What is the alternative? Gut feeling? Go with long known insights that are patently wrong / not working? Throw a dart?

This is the last cry of the person who has no response to the criticisms raised. If I’ve got a map that is simply wrong, I don’t use it because I have nothing else. And if you read a little bit more carefully, you’ll notice that I am endorsing the political scientist’s and lawyer’s viewpoints over those of economists.

Why don’t we get some fresh eyes on these problems… preferably from other domains. Maybe they can spot actionable insights that others missed to due confirmation bias or similar emotion driven analysis. More thinking and less emotion are better.

I was actually a 1W051A (Wx Forecaster) in the USAF about 10 years ago. Weather models are not linear, nor are the problems you’ve mentioned. That is, fundamentally, my problem with the post. Weather forecasters get it wrong ALL the time.

The attempt to model them is nobel and necessary, but at the end of the day, someone needs to make a decision or prediction. The outcome is most certainly unknown at the time of said action… which is my point.

If I am wrong about my prediction, that doesn’t mean I throw away all of my models and data. I simply regroup and try again. The same can be said of the process that applies economic thinking to other domains.

Economic thinking, modeling and predictions are tools. No one has forced Politicians, Lawyers and Environmental scientists to action. They, collectively, are responsible for the decisions they make.

What you are doing is blaming the hammer and nail for a house that is poorly constructed.

I think you misunderstand my position. I am not in favour of using linear theories to describe an economy at all. I am all for tearing down the poorly constructed house, and am not denying responsibility for anyone.

Many of the posts on this blog seem to have the same theme:
1. Define “economics” as what is in undergrad textbooks.
2. Notice that there is some real world phenomena that is not explained well by the undergrad textbooks.
3. Claim “economics” is wrong/deceitful etc.

Yes, there are cases where there are unknowns, in the sense that you outline. Yes, undergrad economics doesn’t give us the tools to deal with them. But guess what? There are hundreds of academic articles where people make serious attempts to deal with these issues. Maybe you think that they haven’t got it right yet, but it’s impossible to tell from your post because you don’t address them at all.

Off the top of my head, in rough chronological order, some of the main attempts to deal with uncertainty:

Savage, various articles in the 40s and 50s, culminating with his axioms of Subjective Expected Utility (my guess is you wont like Savage’s axioms, but that’s ok because there are many others).

Later, Anscombe-Aumann work with a different model from Savage but reach basically the same conclusions.

In the late 70s and early 80s, there is a bunch of work done with non-additive capacities (this work seems to stem from Kahneman-Tversky, but improves on the original considerably). In the mid to late 80s, some authors, notably Schmeidler and Gilboa put forward a range of different axiomatisations. The ones that seemed to have gained the most traction are maxmin expected utility (MEU, which basically causes you to respond to the worst case scenario) Choquet expected utility (CEU). More recently, we have extensions of these such as alpha-MEU and the smooth ambiguity aversion model (very controversial, literature is still forming an opinion on its usefulness/quality).

Lest you think that all of the work has been theoretical mumbo-jumbo, all of the above concepts have been tested experimentally, with many of the experiments being variants of the famous Ellsberg design from the 60s. There have also been many applications, particularly to finance in an attempt to see whether uncertainty and ambiguity aversion can cause stock bubbles and crashes.

TL; DR? Learn something about what you are criticising before you write ignorant blog posts.

I’ve never been persuaded by the response “yeah, we teach undergraduates complete nonsense. So what? It gets better after you’ve been studying economics for 30 years!”

I don’t really see how your post addresses any of my points head on. Does it change the fact that public choice theory is falsified? That the law and economics school was a social disaster?

In fact, I even noted in this post that good economists realise the limits of their approaches and wouldn’t use, say, standard CBA in environmental analysis. But that point seems to have passed you by.

While you have made a point to this “commenter”, Unlearningecon, he too has a point – you haven’t paid enough attention to research in the domain of decision theory, which has been working on the contributions of Daniel Ellsberg since he published his seminal November 1961 article in the Quarterly Journal of Economics. (Of course, there have been other scholars who have contributed to that area besides Ellsberg, but Ellsberg is still regarded as a pretty big name.)

“But how do we propose to calculate the probability of environmental disaster? We don’t have a set of earths we can ‘run’ to evaluate how often catastrophe occurs; climate models display chaotic behaviour that is highly dependent on the accuracy of initial conditions.”

This is not a case of Knightian uncertainty. A simple way to deal with the chaotic nature of such models is to do multiple runs with slightly altered initial conditions. This is done in weather forecasting, for example, and the probabilities are real: 80% of “80% chance of rain” forecasts will be followed by rain. The uncertainty of climate forecasts comes from modeling difficulties, for example no one’s developed a great model for how ice sheets move so models treat them as if they don’t, biasing sea level rise estimates downward by an uncertain amount. But this sort of thing isn’t fundamentally unknowable, it’s just not that well understood so far. And climate modeling uncertainty is just a tiny part of the cost uncertainty. A sufficiently good climate might give us a probability that Hurricane Katrina would hit New Orleans, but telling us the probability that the levee would break is way outside the scope of climate modeling.

Perhaps I didn’t articulate this point very well. The weather is in fact not uncertain and even climate isn’t really, averaged out of the long term as it is. It is the impacts of these things that are uncertain.

> Fortunately, this theory is wrong. Research, the best coming from Leif Lewin, has found that politicians and voters act in what they perceive to be the general interest, not narrow self interest.

I think you might misrepresent Caplan’s position here. I read ‘Myth’ a couple of years ago, and think Caplan might have much more in common with what you say about Lewin than your juxtaposition between the two makes out. (I don’t know enough about Lewin to say more than that.)

Part of Caplan’s argument is that people express their broad self-interest (including psychological fulfillment) by voting for what they perceive is the general good (like Lewin?). He laments this, claiming that if voters behaved according to narrow self-interest, public policy would better serve the actual general good, because it would be less amenable to manipulation by interest groups who claim to represent the general good.

I think if he forumated a heirarchy of policy outcomes it would be:

People know and act on the general good > People know and act on their self-interest > People act on a misapprehended general good.

I don’t see the conflict between Caplan and what you’ve said about Lewin.

Oh, OK, fair enough. My impression of Caplan was based on a video I watched where somebody seemed to be claiming to channel his views and said that voters are rationally ignorant because the costs of voting often outweigh the benefits. Clearly that’s not the case.

Some try to approach the issue of global warming and environmental catastrophe by weighing up probabilities and doing cost-benefit analyses.

Hmmm… The way that you’ve linked there, I get the slightly uncomfortable feeling that you are straw-manning me 🙂
Just for the record then: In the above post I’m trying to explain why the CBA / expected utility framework is the appropriate *departure point* for dealing with uncertainty (and clearly better than the framework proposed by the person that I was responding to). However, as I also explain, Knightian-type uncertainty has unsettling implications w.r.t. using CBA calculations for climate change. This is where the work of Weitzman et al. comes in.

On economic evaluation of the environment:

It is not possible to place a monetary value – economist’s go to unit – on most environment variables[…] The financial metrics used by economists are surely among them, but they are only a small part of the picture.

“As much as they want to, environmentalists can’t simply play the “nature is beyond valuation” card at their leisure. This only serves to seal off the debate and, whether we like or not, it is vital to understand what the monetary worth of something might be… Even if that does not capture all of the value at stake. Indeed, I would say that economic valuation of the environment isn’t meant to be the final word on the subject and one certainly shouldn’t make that claim.

An analogy: It may be scant comfort for a widow that she receives a life insurance policy in the event of her husband’s death. She would, presumably, trade them instantly if she could. However, at least she does not have to want for material necessities or comforts in his absence.”

No no! I was linking to you discussing someone else who was trying to weigh up the probabilities. Sorry if I didn’t make that clear.

I don’t think our comments are mutually exclusive. We both think that monetary valuation is just one part of the big picture. The problem I get is that sometimes it feels like economists come along and say ‘well, it’s easy to value the environment! Just use revealed preference and discount appropriately.” But neither side should try and shut off debate with ‘you can value it this way’ or ‘you can’t value it at all.’

But with environmental policy in general, the question is not really whether a carbon tax reduces growth by a certain amount. If scientists believe it will take the earth below whatever ‘tipping point’ they have in mind, then, within reason, it is advisable that we use it. I know various utility functions can be created to model this but I really don’t see why they’d be needed.

A minor point. Your last paragraph could be read as suggesting that Keynes thought that classical economists actually had virtue, whereas he was arguing the opposite. Similarly he regarded the ‘mathematical certainty’ of his day as an illusion. As a mathematician, I think that a mathematical approach to economics would be a ‘good thing’. (Only, one has to understand that there is more to mathematics than just manipulating formulas.)

Like Keynes, I think that a mathematical theory of uncertainty would be a ‘good thing’, but such a theory would need to be well-posed, falsifiable and to survive appropriate testing. If only!

But speaking of John Maynard Keynes, mathematics, and probability theory…

Dr. Michael Emmett Brady and Professor Rogerio Arthmar’s article on the connection between George Boole and John Maynard Keynes has at last been published by Italy’s History of Economic Ideas in the 2012 Volume XX, Issue 3 edition. The final version is entitled, “Keynes, Boole and the Interval Approach to Probability”.

According to what I’ve been told by Dr. Brady, he and his coauthor were told by the editorial board that their article was going to be published as either part of a special issue or as part of a symposium to itself. Either way, they were told that their article was going to have four commentators, also published in the same issue. However, it seems that the four commentators – whoever they were, and for whatever reason – have not made their comments on the Boole/Keynes article in the same issue.

Either they changed their minds about commenting on the Boole/Keynes article, or they have decided to make their comments on the Boole/Keynes article in another issue down the road.

“This found its reductio in Bryan Caplan, who suggested that voters are rationally ignorant of politics because the costs outweigh the benefits, and so economists (who are obviously right about everything) should dictate public policy.”

My understanding is that the main argument of Caplan’s book is that voters are NOT rationally ignorant the way public choice theory asserts, but suffer from various ‘irrational’ anti-market biases. In any event from what I have read of public choice theory (which includes alot more than just libertarians, by the way), none of it would support the conclusion that policy should be dictated by economists. Economists would have no stronger incentives than anyone else to be particularly well informed about policy, the politicians they are voting for, etc. The exception would be economists who specialize in a particular policy area (i.e. a Latin American development/agricultural economist might be particularly well informed about, say the consequences of NAFTA for farmers in Uruguay, that example is completely made up by the way), but that would be true of anyone who worked in a particular sector, economist or not. The point of most public choice theory, as I understand it, is that the institutions of representative majoratarian democracy are such that voters elect representatives to make descisions on their behalf about a hopelessly broad range of issues the overwhelming majority of which they could never know very much about (and not because they are stupid or irrational, but because the amount of relevant information is so vast). This ignorance creates a scope for policy making to be dictated not based on the preferences of ‘the public’ (who have nowhere near enough time or energy to monitor policymaking to make sure it is in line with their preferences), but instead used by politicians for a variety of their own purposes (which again may or may not be strict financial gain). As another commentor pointed out, not being motivated by pecuniary interest is not the same as being motivated by the public good. Funnily enough, a first year undergrad economics course would predict that given that the marginal utility of income is generally diminishing, and most politicians already have reasonably high incomes anyway, they would probably be primarily motivated by things other than income. Maybe this would be serving the ‘general good’ (whatever that is supposed to be) but it could just as easily be consolidating their own power, paying off patrons and supporters, establishing a particular reputation or legacy for themselves, or simply to inflate their sense of self-importance, or any combination of these and other motivations. Precisely what motivates policy-makers (and individuals more broadly) is a complex question that economists would do well to engage with more (I would agree that most economic accounts are probably too simple). However, how is saying that ‘public servants are generally public-spirited’ any less of a broad oversimplification than saying ‘people pursue money above all else?’

However, how is saying that ‘public servants are generally public-spirited’ any less of a broad oversimplification than saying ‘people pursue money above all else?’

I didn’t imply it was just money; I suggested it might be power, prestige or any number of things. And nor would I suggest anybody only acts in one way. In fact I am a big fan of the theory of multiple selves, which suggests precisely the opposite.

>”Empirically, it’s obvious that the framework economists had a substantial part in setting up has failed. Fraud has risen; the changes in anti-trust have not had the benefits that economists predicted; we had a financial crisis in 2008 as a result of the regulatory framework put in place. Note that this isn’t an ideological point: you can think that the regulation was too loose, too tight, or simply wrongly formulated. But in general, defending the exact thinking and framework that led to the crisis is absurd.”

This type of overbroad generalization is where I have trouble. I presume that if asked you wouldn’t say that the regulatory framework was the sole cause of the crisis. Yet you say the crisis was a result of the regulatory framework, and the thinking behind the regulatory framework led to the crisis. Without identifying and “isolating” variables that caused the crisis, how can you make a proper evaluation of the legal framework variable? You make no attempt to address any other factors that may have played a role, and instead use your predisposed ideas to assume that it played the main (only?) role. You leave the reader no evidence to support your assumption that the legal framework actually led to the crisis, unless they agreed with you to begin with.

Also, you support the idea that the legal framework has failed with data about fraud rising. In fact, the article you cite largely attributes the increasing fraud to the broader availability of the internet, which allows people to do what they have always done, but on a larger scale. This is hardly “obvious” empirical evidence that the current legal framework is bad or that law and economics is itself wrong.

Chalk the regulation part up to laziness on my part. I just had a feeling that the whole crisis thing had been overdone and didn’t want to distract people with the details. The ECONNED link explores it in more depth; see also Moira Brennan’s comments below.

As for the internet point: in my opinion that’s just the thing. The one size fits all regulatory framework of the economists could not keep pace with evolving challenges in emerging industries. The widespread belief – among Chicago anyway – that the market will sort everything out ignored systemic opportunities for fraud.

On the subject of Bryan Caplan’s book, Jeffrey Friedman pointed out the many problems in it in “The Irrelevance of Economic Theory to Understanding Economic Ignorance” which can be found here http://criticalreview.com/crf/jf/20_3_caplan.pdf

Regarding Jeffrey Friedman…he is heavily influenced by the thinking of G. L. S. Shackle. While he may be correct in pointing out faults in Bryan Caplan’s book, Friedman can charged with the nihilistic fallacy. Why? Because like Shackle, he goes to far in his invocation of ignorance.

“this stems from Kaldor-Hicks efficiency, which suggests that pareto optimal policies can be combined with redistribution policies to produce the best possible outcome in terms of both efficiency and equity. Sadly, in practice this means economists sometimes just advocate the former, with the proviso that the latter could happen, but don’t worry as much as they should about whether the redistribution actually does happen”

There are many justifications for KH efficiency; redistribution to achieve pareto improvements is just one of them. Another is that if you do enough KH efficient policies, then everyone will be better off — the losers will be winners next time. This is, of course, bunk too. Most CBAs consistently underweight the WTP of the poor, and analysts know this. Another justification is that KH efficiency approximates utilitarianism. This has issues too because, well, utilitarianism has issues! Another is the libertarian justification in that the winners from KH efficient policies will compensate the losers out of good will, without any need for redistribution — which is almost a laughable justification.

I’ve always seen a tension between the strongly utilitarian nature of neoclassical economics, with pareto efficiency, utility and so forth, when contrasted with many of its adherent’s supposed commitment to individual freedom.

I perceive a big problem in the econ literature (and this penetrates way beyond undergraduate level) in the concentration on “efficiency” (of various definitions, including KH) and no consideration of the robustness of the system created and sometimes no attention paid to the difference between theory and practice.

– Thus we get many fragile systems created in the name of efficiency and mysteriously few studies of the cost of the subsequent meltdowns.

– The theory and practice point is about how a system that works on paper fails in the real world, usually because of a number of issues which the economist in their defence terms as “externalities” which they neglected to make the analysis workable.

Thus we get many fragile systems created in the name of efficiency and mysteriously few studies of the cost of the subsequent meltdowns.

Precisely. Economists often seem be imply that, because the economy once boomed, the subsequent bust is really just a footnote and they should be praised for the boom. A similar attitude is observed among politicians: for example, when George Osborne claims his faltering growth is due to the eurozone, he fails to note that this is something he should have taken into account when designing the strategy! Imagine if an engineer said ‘well, it was fine until the earthquake came along”!

The theory and practice point is about how a system that works on paper fails in the real world, usually because of a number of issues which the economist in their defence terms as “externalities” which they neglected to make the analysis workable.

This is absolutely true and something I touched on in my ‘as if‘ post: small deviations from initial assumptions can create wildly different behaviour.

A big thank you for mentioning opportunity costs. The chapters in courses I took in economics near the end of the last century always ended up with them. They spiralled endlessly until the very last action we take in our lives – and maybe even after – opportunity costs are involved. Thanks again, I am addicted.

Thank you for this thought provoking post. Your blog is brilliant. I think you have the potential to become the Keynes of the 21st century. Thank you for liberating us from the delusions of neoliberalism.

The Chicago School has had a dreadful impact on law. Gary Becker in particular has caused innumerable damage with his work in criminology. Using a “rational actor” approach Becker theorized that criminals weigh cost/benefit in their actions between chances of getting away and the punishment of being caught. Thus he concluded that the smartest policy is to decrease enforcement and instead just maximize penalties, this would save money and decrease crime. In his mind criminals would weigh the benefits and risks and conclude that the steeper penalties outweighed the increased likelihood of getting away with it.

Unfortunately Mr. Becker was wrong, we discovered its actually the other way around. Many criminals are fundamentally impulsive, or perhaps to put it in econ language, they have high “time preference”. They value the ability to get away more than the chances of getting caught. So if the chances of getting caught are lower, they are more likely to commit the crime, regardless of how severe the penalty is. What actual criminologists (not Gary Becker) later discovered was that the way to reduce crime is to increase enforcement and decrease penalties. The exact opposite of what Becker said. Traffic cameras at intersections and lower fines will decrease speeding more than depleting the police force and amping up the fines. If the likelihood of getting caught is greater it will reduce crime regardless of how severe the penalty is.

However, sadly Mr, Becker’s ideas were put into action by governments in the 1980s, decreasing enforcement and amping up the minimum sentences. What we ended up with was a crack epidemic and increased crime rates, and even more horrifying people getting thrown into prison for decades long sentences for simple crimes like small possession of cocaine or petty theft. Crime went up instead of down, and as always it was the poor and minorities who got hit the hardest. The criminology work of Becker is a horrifying example of economic imperialism gone wrong. And sadly many people have had their lives ruined and families destroyed by his flawed theories.

The real crime is that this jerk Becker still parades around like he is actually worthy of respect. He has been wrong so many times on so many things I really don’t know how he can take himself seriously. And not only has he been wrong, but his wrong works have been relied on by governments who in turn put in place ineffective and inhumane policies that have ravaged the African American community and bloated our prison system. It really is outrageous, economic imperialism at its worst, and I am ashamed that more legal scholars and psychologists have not spoken out against things like this. Becker had no business making recommendations for a field that is fundamentally in the realm of psychologists and sociologists. He is an example of what kind of economist you do NOT want to be.

It’s incredibly disturbing the amount of damage economists can – and are allowed to – do when they apply their ideas. And that’s when they’re actually talking about economics. I know of similar methods to Becker’s, such as using cost-benefit analysis on addiction, which is one of the funnier examples.

I agree, theories like the rational addict are humorous if you discount the fact that they have actually been relied on by professionals in the past. Kind of like how bloodletting is humorous to people today even though it is kind of disturbing when you think of all the unnecessary deaths that occurred because of it.

As someone with a background in psychology and law its shocking to me just how wrong Becker’s theories have been when weighed against empirical evidence from psychologists and sociology. I think there was a period in the 70s and 80s when libertarian thinkers were convinced they had found a new way of looking at things and many of the political forces (Reaganism and Thatcherism) were cheering them on. It also coincides with Thomas Szasz’s anti psychiatry movement which believed that mental illness was made up to imprison people and the mentally ill should be treated as normal people. http://en.wikipedia.org/wiki/Thomas_Szasz

In reality what we later realized is that there are some activities which simply are not rational. Heroin addiction really isn’t rational, no matter how you look at, its much more logical to view it as a dysfunction in your dopaminergic system and dependency of your opiod system than to say that a heroin addict is simply choosing the most rational path. Because they are not choosing the most rational path, the most rational path in 90% of the cases is to simply get off the drug!

Just like how the most rational path for most criminals is to avoid committing the crime. The costs of being a criminal clearly outweigh the benefits in the long run. It makes much more sense to be realistic and say that criminality is a result of either mental illness and cultural reinforcement of certain behaviors in crime laden areas.

Mental illness is real, irrationality is real, you can’t make just laws without bringing these things into consideration. These things are very complex and I think the great failure of the Friedmanites and Chicago School types is not that they grossly oversimplified human behavior to a degree that it was virtually a banality, but that they were convinced that they had found “the way” to approaching societal problems. They were convinced that the answer for virtually everything was always the same: less government, less regulation, rational actors yada yada yada. I mean how stupid could those statists be for not knowing that everything was SO simple?

Unfortunately reality doesn’t work like that, I hate to appeal to the naturalistic argument but if everything really was that simple wouldn’t humans have figured it out a long time ago? We are smart animals, we generally tend to gravitate towards the most effective policies and when we have something with an easy answer we go for the low hanging fruit. The fact that there is still great confusion and debate in many of these areas should show that they are in fact quite complicated questions with no easy answers. And even if we look at just economics this critique still applies, the fact that there is still enormous division among economists over certain questions should indicate that the answers to them are not so simple.

I agree that it needs to be told. Sadly there doesn’t seem to be much impetus in doing so. I am not aware of very many people openly attacking Becker and others on this issue, they tend to shift blame to the politicians themselves who enacted these policies.

Economists tend to have more political influence than say psychologists and sociologists do since economic policy is a major part of government affairs. This makes sense, Keynes himself was really writing for the governments of his day just like how Krugman is doing so today. Have you ever heard of a prime minister having “sociological advisors”? Of course not. There’s nothing wrong with getting expert advice from economists, its just that when economists venture into areas outside their expertise like Becker did that it becomes dangerous.

Look at current environmental policies, I think its clear that economists are having a greater influence than climatologists who seem to be furious about current policies.

But I really think that is probably the best explanation for why things like this happen and why the public has been rather mum on it. Economists tend to play a much bigger role in government policies than other academic areas and as a result their potential for both progress and harm is great.

The public has seemed to accept that economists are a dangerous bunch, just look at Karl Marx. Never underestimate the influence they can wield and the amount of destruction which can occur if people take them to heart.

In many ways I think what needs to happen is that other areas of science need to become more vocal about the damage of bad policies. One thing I admire about economists is that they aren’t afraid to call governments out when they are getting it wrong. I wish other areas had that kind of nerve.

Regarding the Chicago School’s contributions to law and economics and the Public Choice School’s approach to political economy…

Both Stigler and Buchanan were aware that their arguments had long been preceded by other observers from the past. Buchanan was just as aware of market failure, even though he focused on the rent-seeking and/or self-interested behaviour of politicians (particularly ones elected to office in a representative democracy).

They painted the Progressive reformers of the New Deal era as naive and overly-optimistic.

But eventually, the scholars in the Chicago School law and economics movement (I forget whether it was Stigler or Becker, unfortunately) *did* concede that much of what they had done in law and economics was actually old news by the time they brought it into the field. Also, historians of law who examined the history of economic regulation in the United States carefully found out that contrary to the portrayal of the Progressive reformers by the Chicago School, advocates of regulation at the time were well-aware of the idea of regulatory capture, even if they did not use the term itself – the term they used was the more general word “corruption”. The history of the overlaps between law and economics really go back to establishment of the rule of law at the start of the United States (and by extension, the beginnings of any nation, for that matter), not just the time of the New Deal in the 20th century.

Please see Chapter 1 of this set of papers, which eventually will be published as a book.

The main fault of the Public Choice School, despite having a kernel of truth, is not that its arguments have been preceded by other observers, but rather, that the people who advocate their arguments have become so, so, so, unnecessarily cynical that they end up resigning themselves to fate.

Of course people can be self-interested. Of course there is such a thing as corruption and being self-serving.,

But is that an excuse not to act, regardless of how flawed and imperfect the policy response might be?

And Ramanan, the definition of “rational” by orthodox economists is one of internal consistency, and this definition is supplied by the standard decision theory created by Bruno de Finetti, Frank P. Ramsey and Leonard J. Savage: Subjective Expected Utility. Real world decision-making is of course more dynamic and complicated than that.

Is the existence of different schools in economics a reflection of its deductive rather than inductive nature? Each school starts off with its own axioms and/or rules of inference, ascribing different values to the same things, with the result that predicted actions are different. How do we decide which deductive regime is best?

Thus, environmental costs might be priced at one level by one individual and completely discounted by another. If these same two individuals are asked to decide whether to open a mine in a pristine area, one might refuse on the basis that the environmental damage doesn’t justify the profits of the mine, whereas the other might proceed.

In this sense, isn’t economic theory a matter of personal principles?

Some of us who look at America from the outside view much of the American justice system to be petty and vindictive. Perhaps many Americans place a higher value on punishment than rehabilitation.